CFPB arbitration rule is an undeniable win for consumers

In a recent BankThink piece, Attorney Joseph Cioffi questions the benefits of the Consumer Financial Protection Bureau’s recently finalized rule banning mandatory arbitration clauses in most consumer credit and financial agreements.

The rule’s consumer protections, Cioffi suggests, may actually turn out to be bad news for consumers. As he sees it, the rule will lead to more litigation, and therefore, consumers should prepare for higher prices of financial services and products as a result of the rule. However, a review of the evidence suggests his prediction is not accurate.

The CFPB’s new rule would allow consumers to band together in class actions against companies they do business with in pursuit of redress for injuries or fraud. Today, such lawsuits are increasingly impeded for the vast majority of Americans because fine-print mandatory arbitration clauses from corporations have become ubiquitous.

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Although the new arbitration rule has been welcomed by consumer advocates, and some libertarians and constitutional originalists, congressional Republicans and corporate interests are working to kill it.

Cioffi’s argument on the contentious issue runs thus: If allowed to go into effect, the arbitration rule will unleash trial lawyers to file more class-action lawsuits. At the same time, the Trump administration’s aggressive deregulatory efforts are already unleashing corporations to engage in more bad, or at least, in more controversial behavior. As Cioffi sees it, these two developments mean more lawsuits. In turn, more lawsuits will mean an efficiency drag on producers, which in turn will mean that banks — which determine the prices of products and services, in part, on their own assessment of regulatory and legal risk — will charge consumers more.

That argument certainly sounds plausible. But it has a weakness: Deregulation can cut both ways. Yes, reducing regulatory burdens can certainly invite more litigation; however, it can also boost private-sector efficiency. In other words, deregulation can make costs go up — or down. At this early stage in the Trump deregulatory push, we can’t confidently predict which way costs will go.

And that unknown leaves Cioffi’s argument without an engine. What remains is a conventional indictment of class action lawsuits versus arbitration. But even that belief rests on a couple of assumptions that are, at best, questionable.

The first questionable assumption: Individual arbitrations are more efficient, and therefore, less costly than class actions. The evidence for this is thin, if not nonexistent. Instead, we have some pretty good anecdotal evidence pointing the other way. As Georgetown Law Professor Adam J. Levitin has noted in these pages:

● When Bank of America, JPMorgan Chase, Capital One and HSBC dropped their mandatory arbitration clauses in 2009 following a legal settlement, their prices did not go up.

● Nor did mortgage rates go up when Fannie Mae and Freddie Mac stopped buying mortgages with such clauses after Oct. 1, 2004.

● Nor did mortgage rates go up when Congress permanently banned the clauses in mortgage contracts, effective June 1, 2013.

The second questionable assumption: Firms ordinarily pass the savings from mandatory arbitration along to their customers. Here again the evidence is thin, while evidence pointing in the opposite direction is strong:

● A 2004 study by Jean R. Sternlight and Elizabeth J. Jensen said: “No published studies show that the imposition of mandatory arbitration leads to lower prices.”

● According to a study by law professor Jeffrey W. Stempel, also in 2004: “There is nothing [in the literature] to suggest that vendors imposing arbitration clauses actually lower their prices in conjunction with using arbitration clauses in their contracts.”

● A CFPB study from 2015 noted that credit card companies had found no statistically significant evidence that companies that eliminated their arbitration clauses increased their prices compared to companies that made no change in their use of arbitration clauses.

These findings undercut the empirical basis for Cioffi’s argument.

Yet he also reiterated a much-cited assessment about what consumers reap from class actions. “[E]ven the CFPB's own studies,” Cioffi writes, “show that individuals on average receive less in class actions after legal fees than they do in arbitration.”

That statement is misleading because it focuses on the size of the award while omitting an equally important factor: The justness of the process. Many an injured plaintiff ends up with nothing — not because of a weak case but because the consumer is barred from suing and deterred from pursuing an individual arbitration due to the latter’s perceived rigged nature and/or poor potential payoff. He or she receives nothing, but this outcome is not captured in the data.

To be sure, some class-action attorneys do engage in off-putting and even unethical behavior. But that problem can be managed without having to deprive people of their access to court.

Class actions serve a useful purpose and offer unique benefits. As the congressional House Liberty Caucus wrote in a statement on Facebook: “[Class actions] are a market-based solution for addressing widespread breaches of contract” and “a preferable alternative to government regulation because they impose damages only on bad actors rather than imposing compliance costs on entire industries.”

Arbitration clauses have become controversial because they have become effectively mandatory, slamming the door on people’s Seventh Amendment right to a civil jury trial.

The CFPB’s rule restoring the optional nature of such clauses, for millions of Americans, may be bad news for alleged corporate wrongdoers like Equifax and Wells Fargo, but surely for the victims of such wrongdoing — and for consumers, generally — it is good news indeed.